BOOK REVIEW: ‘Octopus’

At one level, this book brings to mind those old Na- tional Geographic documentaries about the headhunters of New Guinea. For it is an inside look at a savage tribal society, isolated from the outside world, that preys on unwary travelers who fall into their clutches. The tribe is known as Wall Street traders.

With grim and authoritative detail, author Guy Lawson shows how even the most august names in our investment industry cheat their customers, break the rules and can betray the public trust on which free-market capitalism depends for its legitimacy.

But at another level, this book also reminds one of that rollicking farce concocted by Mel Brooks - “The Producers” - in which two seedy con men oversubscribe a theater production of “the worst play on Broadway” only to have a smash hit on their hands.

In less deft hands, a plot like this could result in a confusing mishmash of a book, neither serious nor really funny. But Mr. Lawson has managed to produce some serious journalism on an important and dark story about the crisis in our financial sector while bringing to life one of the most colorful, and often engaging, con men of this or any other century.

Sam Israel is perhaps best known to most people as the Wall Street hedge-fund manager who tried to evade prison by faking a suicidal leap off a bridge in New York in 2005.

Most of us have some acquaintance with the Sam Israels of this world, especially if one attended college in the American South at any time in the past 50 years. The type is known as the “party boy,” usually wealthy, spoiled, lazy, charming, often outrageously funny and generally assumed to be doomed to a life of idle wasting.

Sam Israel was all of the above, except he also had a worm of hot ambition buried deep inside that was waiting for some quick lightning stroke of luck that would make him a superstar at something. He would not have minded being a rock star, for example.

Despite being a member of the third generation of a wealthy New Orleans commodities-trading clan, Sam spent his early career as a lowly runner among the trading posts of the New York Stock Exchange, learning the dark practices of insider trading and “front running” (trading for one’s own account before executing a customer’s order).

Sam also saw how his mentors conned customers and each other in a sudden-death arena where if one was not led away in handcuffs, what one did to score an advantage could hardly be wrong. These Wall Streeters, then, are traders, not investors. The value of the shares being traded and the health of the underlying company are largely irrelevant. They live for the trade, betting millions on whether a share price will jump up or down long enough for them to score.

And here is where these con men conned themselves. Guessing which way the market price of a share will move is akin to flipping coins; the laws of probability do not apply. Yet the advent of the computer convinced many of Wall Street’s whiz kids of the 1980s that with the right data inserted into a computer program of their own devising, it could give them an unprecedented head start on the competition.

In Sam’s case, he developed something called Forward Propagation that, at least most of the time, was remarkably accurate in forecasting trends to an extent that could have made him wealthy by ordinary standards. But there never was anything ordinary about Sam, not even from the start. By the time he founded his Bayou hedge fund in 1995, he already was deeply addicted to alcohol, cocaine and outrageous spending binges.

In order to make bigger profits on those trades where he was right, Sam and his confederates at Bayou began modestly enough to recruit other investors to hand over their money with the promise of ever-greater returns - at one point offering a preposterous 18 percent return - that they could never match. When Forward Propagation clanked up a loser, they began to cook the books in earnest.

It did not seem to make the slightest difference. Federal regulators remained clueless, lacking the simplest understanding of the marketplace and apparently too lazy even to examine the increasingly fictional public documents Bayou was putting out.

Nor were Wall Street’s big-name investment houses any better, plunging their best customers into Bayou trades - for the commission fees they earned - without the most basic due diligence. With incredible bursts of energy and total belief in himself, Sam was able to pull an astonishing $450 million into Bayou’s accounts but was from the start doomed by the iron law of all Ponzi schemes: They can never earn enough money to redeem the promised profits to late-coming investors. The bigger they grow, the deeper the hole they dig.